Getting made redundant is stressful enough without trying to figure out how much tax you're going to lose on the way out. The good news is that a decent chunk of your redundancy pay is tax-free. The bad news is that the rules are more complicated than most people think.

The first £30,000 of qualifying redundancy pay is tax-free. But not everything in your package qualifies. Notice pay, holiday pay, and PILON are always taxed as normal earnings. Getting this wrong can cost you thousands.

The £30,000 tax-free rule

Under ITEPA 2003, s.403, the first £30,000 of termination payments is exempt from income tax. This is often called the "£30,000 tax-free allowance" and it covers qualifying payments made in connection with the termination of your employment.

That means:

  • The first £30,000 is completely tax-free. No income tax, no National Insurance.
  • Anything above £30,000 is taxed at your normal income tax rate. So if you're a basic rate taxpayer, you'll pay 20% on the excess. Higher rate taxpayers pay 40%.
  • You only get one £30,000 allowance. If you receive payments from multiple connected employers, they're added together and you still only get one £30,000 threshold (ITEPA 2003, s.404).

What counts towards the £30,000

Not everything in your redundancy package uses up your £30,000 allowance. Only qualifying termination payments count. These include:

Statutory redundancy pay. This is based on your age, length of service, and weekly pay. It's always tax-free and it sits within the £30,000 allowance. For most people, statutory redundancy pay is well below £30,000, so it's fully tax-free.

Enhanced redundancy pay. This is any extra redundancy payment your employer makes on top of the statutory minimum, whether it comes from a company policy, your contract, or negotiation. It counts towards the £30,000 allowance.

Ex-gratia payments. Sometimes called a "goodwill payment." This is an extra lump sum your employer offers, often as part of a settlement agreement. It also counts towards the £30,000.

All of these are added together. If the total comes to £30,000 or less, you pay no tax on any of it. If the total goes over £30,000, you only pay tax on the amount above the threshold.

What is ALWAYS taxed as normal earnings

This is where most people get caught out. Some payments in your redundancy package are always taxed as regular earnings, just like your salary. They do not count towards the £30,000 allowance and they never benefit from it.

Notice pay. Whether you work your notice, get garden leave, or receive PILON, your notice pay is taxed as normal earnings. Income tax and National Insurance are deducted just like from your salary.

PILON (Pay In Lieu Of Notice). Since April 2018, all PILON payments are taxed as earnings. It doesn't matter whether your contract has a PILON clause or not. This is calculated under the Post-Employment Notice Pay (PENP) rules, which we'll explain below.

Holiday pay. Any accrued holiday that gets paid out when you leave is taxed as normal earnings.

Unpaid wages. Any salary owed to you up to your leaving date is just regular pay and is taxed accordingly.

Bonuses. Any bonus you're entitled to is taxed as earnings. It does not benefit from the £30,000 allowance.

The myth that "everything under £30k is tax-free"

This is probably the most common misunderstanding about redundancy pay. A lot of people think that as long as their total package is under £30,000, they won't pay any tax. That's wrong.

The £30,000 threshold only applies to qualifying termination payments. If your package is £25,000 but includes £8,000 of notice pay and £2,000 of holiday pay, here's what actually happens:

  • Notice pay (£8,000): Taxed as normal earnings. Does not touch your £30,000 allowance.
  • Holiday pay (£2,000): Taxed as normal earnings. Does not touch your £30,000 allowance.
  • Redundancy pay (£15,000): Tax-free. Falls within the £30,000 allowance.

So even though the total is under £30,000, you're still paying tax on £10,000 of it.

If your employer bundles everything into one number without a proper breakdown, you need to ask for one. The way the payments are categorised makes a real difference to your tax bill.

PENP: Post-Employment Notice Pay

PENP sounds complicated but the idea is quite simple. Since April 2018, the tax rules changed so that your notice pay is always taxed as earnings, even if your employer doesn't call it PILON (ITEPA 2003, s.402D).

Here's why it matters. Before 2018, some employers would lump notice pay into a termination payment and claim it was all covered by the £30,000 allowance. HMRC closed that loophole.

Now, your employer has to calculate your PENP. This is basically the pay you would have earned during any unworked notice period. That amount is stripped out of your termination payment and taxed as earnings. Only the remainder benefits from the £30,000 allowance.

You don't need to calculate PENP yourself. Your employer's payroll team should handle it. But you should check that they've done it correctly, because if they haven't, you could end up overpaying or underpaying tax.

For more on how PILON and notice pay works, see our full guide on PILON and how it's taxed.

National Insurance on redundancy pay

The National Insurance treatment is actually more generous than the income tax treatment.

Employee National Insurance: You do not pay any employee National Insurance on termination payments. Not on the first £30,000 and not on anything above it either. The only NI you pay is on the parts taxed as earnings (notice pay, holiday pay, etc.), which are treated like normal salary.

Employer National Insurance: Your employer pays Class 1A National Insurance on termination payments above £30,000. This was introduced in April 2020. It doesn't affect your take-home pay directly, but it's worth knowing because some employers factor this cost into the package they offer you.

So to summarise the NI position:

Payment type Employee NI Employer NI
Termination pay (first £30,000) No No
Termination pay (above £30,000) No Yes (Class 1A)
Notice pay / PILON Yes (as normal earnings) Yes (as normal earnings)
Holiday pay Yes (as normal earnings) Yes (as normal earnings)

Practical example: how the tax breaks down

Let's say you've been made redundant and your total package looks like this:

  • Statutory redundancy pay: £10,000
  • Enhanced redundancy pay: £25,000
  • PILON (3 months' notice): £12,000
  • Accrued holiday pay: £2,000

Total package: £49,000

Here's how the tax works:

Step 1: Separate earnings from termination payments.

  • PILON (£12,000) and holiday pay (£2,000) are taxed as normal earnings. Income tax and National Insurance are deducted as normal. These do not touch the £30,000 allowance.

Step 2: Apply the £30,000 allowance to the termination payments.

  • Statutory redundancy (£10,000) + enhanced redundancy (£25,000) = £35,000 in termination payments.
  • First £30,000 is tax-free.
  • Remaining £5,000 is taxed at your income tax rate (but no employee NI).

Step 3: Work out the tax bill.

Payment Amount Income tax Employee NI
PILON £12,000 Yes, at your rate Yes
Holiday pay £2,000 Yes, at your rate Yes
Redundancy (first £30k) £30,000 No No
Redundancy (above £30k) £5,000 Yes, at your rate No

If you're a basic rate taxpayer, the income tax on the £5,000 above £30k would be £1,000. A higher rate taxpayer would pay £2,000 on that portion.

How to reduce your tax bill using a pension

If your termination payment is above £30,000, there's a legitimate way to reduce the tax you pay. You can ask your employer to pay some or all of the excess directly into your pension.

Employer contributions to your pension from a termination payment are not subject to income tax. So instead of receiving £5,000 above the threshold and losing £1,000 to £2,000 in tax, you could have that £5,000 paid straight into your pension tax-free.

A few things to keep in mind:

  • Your employer doesn't have to agree to this, but many will if you ask. It saves them employer NI as well, so they have an incentive.
  • The payment must stay within your annual pension allowance (currently £60,000, or your total earnings if lower). Anything above this could trigger a tax charge.
  • You won't be able to access the money until you reach your pension age.
  • Get advice from a financial adviser before doing this, especially if the amounts are significant.

This is one of the most effective ways to shelter a large redundancy payment from tax. If your package is well over £30,000, it's definitely worth exploring.

Quick reference: what's taxed and what isn't

Payment Tax-free? Counts towards £30k? Employee NI?
Statutory redundancy pay Yes (within £30k) Yes No
Enhanced redundancy pay Yes (within £30k) Yes No
Ex-gratia / goodwill payment Yes (within £30k) Yes No
Amount above £30,000 No, taxed at your rate N/A No
Notice pay (worked) No, taxed as earnings No Yes
PILON No, taxed as earnings No Yes
Holiday pay No, taxed as earnings No Yes
Unpaid wages No, taxed as earnings No Yes
Bonuses No, taxed as earnings No Yes

What if I think my tax is wrong?

If you've already received your redundancy payment and you think too much tax was deducted, you might be able to claim a refund from HMRC. This can happen if your employer taxed the whole package as earnings instead of applying the £30,000 allowance properly.

You can check by looking at your P45 and comparing the figures. If the termination payment was taxed as regular pay, contact HMRC or speak to an accountant about getting a refund.

Next steps

If you're working through a redundancy or settlement agreement, understanding the tax position is just one part of it. You should also check:

This article is general guidance about UK redundancy tax rules. It's not legal or tax advice and shouldn't be treated as a substitute for advice from a qualified employment solicitor or tax adviser.

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